Q2 2023 Kforce Inc Earnings Call
Speaker 1: Good afternoon and welcome to the K-4 second quarter earnings call. My name is Brianna and I will be your conference operator today.
Speaker 1: Please note that this call is being recorded.
Speaker 1: All lines have been placed on mute to prevent any background noise.
Speaker 1: After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, please press star followed by the number 1 on your telephone keypad.
Speaker 1: I will now turn the call over to Joe Liberatore, KFORCE President and CEO . You may begin your conference.
Speaker 2: Good afternoon. This call contains certain statements that are forward-looking. These statements are based upon current assumptions and expectations that are subject to risk and uncertainties. Actual results may vary materially from the factors listed in K-Force's public filings and other reports and filings with the Security Exchange Commission.
Speaker 2: We cannot undertake any duty to update any forward-looking statements. You can find additional information about our results in our earnings release and our SEC filings. In addition, we have published our prepared remarks within our investor relation portion of our website.
Speaker 2: Our results for the second quarter reflect the continuation of an uncertain economic environment and we believe the actions being broadly taken across industries by our market leading clients to ensure they are prepared for the possibility of a slowdown. This view is informed by our internal metrics, discussions with clients and other industry and economic data points.
Speaker 2: There have been widespread concerns and frankly expectations the US economy would fall into a recession of uncertain severity since the Federal Reserve began aggressively raising rates in March of 2022 to address the persistently high inflation.
Speaker 2: The yield curve continues to be significantly inverted, which has been a very strong indicator of a likely recession going back more than 50 years. We also experienced the collapse of several large financial institutions over this time. Though the pace of hiring has slowed and we have seen an increase in level of layoffs, the labor markets have continued to be remarkably resilient.
Speaker 2: with continued historically low levels of unemployment. More recently there have been some indicators suggesting significant moderation in inflation, the increasing discussions of a possible soft landing to the US economy.
Speaker 2: While we are not economists, my point in sharing these data points is to articulate the significant uncertainties that exist in the macro environment. We believe this is causing companies, broadly speaking, to exercise restraint in the number of new technology investments they initiate and to selectively trim existing projects that don't create an immediate return.
Speaker 2: The restraint being exercised by companies generally speaking, including our clients, continued in the second quarter and though we are still seeing new project awards, we have not seen any broad change in client mindset. This is reflected in our second quarter results and expectations of performance in the third quarter. I am confident this is a spSafe yet adopting rule making strategy. It abundant Want to get started meeting and really
Speaker 2: While the firm continues to operate efficiently due to our focus technology-centric platform and produce results in the technology business that are top of class, it became clear to us that we needed to adjust our structural costs to align them with lower levels of revenues that we are experiencing without compromising investment in key strategic initiatives.
Speaker 2: While actions that affect our K-Force team are tremendously difficult to make and never taken lightly, the impact of these macroeconomic uncertainties on our business drove us to take these actions.
Speaker 2: Dave Kelly, K-Force's Chief Financial Officer, replied insights into the cost and benefits associated with these actions and his remarks.
Speaker 2: As of performance in the second quarter, overall revenues were slightly below the low end of guidance. Despite lower than expected revenues, earnings per share was within the range of guidance.
Speaker 2: As we look further into the future, we remain steadfast in our belief in two areas. First, we believe that the long-term secular drivers in demand and the technology are very much intact and will persist in the future, irrespective of how the short-term economic environment plays out.
Speaker 2: The strength of the secular drivers of demand and technology accelerated significantly coming out of both the Great Recession and the 2020 pandemic, and it remains clear to us that broad and strategic use of technology, including the recent headlines that Gen AI technologies have garnered will continue.
Speaker 2: While clients are acting with heightened caution today, we believe this is resulting in tremendous backlog of desirable investments that will be prioritized once the macro uncertainties begin to clear.
Speaker 2: Technology investments are simply not optional in today's competitive and disruptive business climate. Our core competency is rooted in our ability to identify and provide critical resources real-time at scale to solve business problems for our clients in virtually every industry.
Speaker 2: Our integrated strategy also allows us to be flexible in partnering with our clients to meet their needs as part of a traditional staffing assignment, a managed team, or a managed project engagement. There is simply no other market we would want to be focused on other than domestic technology, talent, solution space.
Speaker 2: Second, we expect the sharpening in our focus to continue to contribute to our market outperformance. We have built a solid foundation at K-Force and are partnering with world-class companies to solve complex problems and help them competitively transform their businesses.
Speaker 2: Our balance sheet is clean and we expect this and our strong cash flows to continue providing us great flexibility to return significant capital to our shareholders. We have a solid, highly tenured team in place with the expectation of continuing to capture additional market share. Our executive leadership team has been through multiple economic cycles.
Speaker 2: and has the experience to skillfully navigate through whatever may lie ahead.
Speaker 2: the experience that could skillfully navigate through whatever may lie ahead. A reflection of preparedness.
Speaker 2: is the success of our executive transition plan initiated in December 2021. At that time, our founder, Dave Dunkel, announced his retirement as CEO and entered into a multi-year agreement to provide the firm support in a non-executive employee role, in addition to continuing his role as board chairman.
Speaker 2: The Board of Directors has determined that due to the success of the transition and the confidence it has in the Executive Management Team, it is now comfortable accelerating this transition to a role solely as a Board Chairman effective immediately, and that those transition services are no longer necessary.
Speaker 2: I want to personally thank Dave for sharing his wisdom and guidance during this transition and I look forward to continuing to engage with Dave and the rest of the Board of Directors.
Speaker 2: Our highly experienced management team is navigating through the current macro climate well, and we will remain very excited about our future prospects. Kai Mitchell, K-Force's Chief Operations Officer, will now give greater insights into our performance in recent operating trends and our future prospects.
Speaker 2: and Dave Kelly will then provide additional details on our financial results as well as our future financial expectations. CHI
Speaker 3: Thank you, Joe. Overall revenues in Q2 declined 10.8% year-over-year with revenues in our technology staffing and solutions business declining 8.5% off very difficult prior year comps where our technology business grew
Speaker 3: As Joe mentioned, our clients exercised more caution in starting new technology investments than we anticipated. Additionally, they continued to selectively trim resources on existing projects. With that said, we have not experienced clients terminating existing large projects.
Speaker 3: While the caution being exercised was seen across our client portfolio in 2023, it has been more prevalent in our largest clients.
Speaker 3: As you look at overall trends within the quarter, we saw some relative stability in April after weaker than usual Q1, which was followed by continued flight softening in May and June . During the last two months of the quarter, the number of technology resources placed on new engagements declined from April levels and assignment...
Speaker 3: declines in the total number of consultants on assignment throughout the second quarter and our guidance reflects a continuation of that trend as we have not yet seen an inflection point.
Speaker 3: Overall, average bill rates in our technology business remain near record levels at approximately $90 per hour, which improved 1.3% sequentially and 3.5% year over year. The increase is primarily driven by the increasing mix of higher skilled workers on assignment.
Speaker 3: In the near term, we expect that average bill rates will remain stable or show slight improvement. This is primarily due to highly skilled technology talent mix and an increase in the proportion of managed teams and project engagements within our overall technology business.
Speaker 3: Looking ahead, we believe average bill rates will continue to work in our favor in the long term. This is especially true as our mix of higher value service offerings continues to rise. Our clients remain focused on critical technology initiatives in the areas of cloud, digital, UIUX.
Speaker 3: Data Analytics, Project and Program Management, and Modernization efforts. Occlames tell us they are committed to starting new mission critical projects for their organizations, leading to wins across multiple industries. Though the pace of initiation is slower. Have you read the report? Remember that 2019
Speaker 3: Although clients are currently exercising more caution in their project investments, based on our historical experience, we expect companies to swiftly shift their priorities and increase their technology investments once the macroeconomic landscape becomes clearer.
Speaker 3: Our clients expect us to broaden our service offerings beyond traditional staffing to include managed teams and project solutions. Clients consider access to the right talent essential to their success and CR services as a cost-effective solution for their project requirements.
Speaker 3: Our integrated strategy capitalizes on the strong relationships we have with world-class companies. We are utilizing our existing cells, recruiters, and consultants to provide higher value teams and project solutions that effectively address our clients' challenges.
Speaker 3: Our client portfolio is diverse and includes large market leading customers, which we believe will drive sustainable and above market performance in the long term. While short-term disruption may occur with certain clients or industries, our diverse client base of world-class companies will ultimately benefit our...
Speaker 3: industries. On a relative basis, we experienced stabilizing sequential trends in the technology hardware and software industry. This sector had previously garnered attention due to the headlines about workforce reductions.
Speaker 3: Our guidance contemplates third quarter revenues in our technology business to decline sequentially in the mid single digits and decline in the low teens on a year over year basis.
Speaker 3: Our FA business declined approximately 10% sequentially in 28% year-over-year. The FA business declined approximately 10% year-over-year.
Speaker 3: The year-over-year declines reflect the impact of business we no longer are supporting due to the repositioning efforts as well as a more challenging macroeconomic environment.
We expect revenues to be down sequentially in the low double digits and approximately 30% on a year-over-year basis in the third quarter. We continue to support our FA business and approve its alignment with our technology business. Evidence of this project, progress, is that our average bill rate in the second quarter of 2020-
over the second quarter of 2022. Not surprisingly, our higher skill set business is where we see relatively better performance.
We have taken necessary and thoughtful measures to strike a balance between associate productivity and revenue expectations. Our primary focus is on retaining our most productive associates, ensuring that we are well prepared to capitalize on market demand when it accelerates.
At the same time, we are also making targeted investments to improve our managed teams and project solutions capabilities.
I am truly grateful for the unwavering trust that our clients, candidates, and consultants place in us. It fills me with immense appreciation to witness the dedication, creativity, and resilience displayed by our incredible team. Without a doubt, it is their dedication and commitment that drives our success.
Dave.
Thank you, Kai.
Second quarter revenues of the $389.2 million declined 10.8% year-over-year, and earnings for share were 95 cents.
Overall gross margins increased 20 basis points sequentially and declined 170 basis points year over year to 28.3% in the second quarter due to a combination of a lower mix of direct tire revenue and a decline in flex margins.
Flex margins of 25.9% in our technology business were flat sequentially on modest bill rate increases as clients understand that qualified, highly skilled candidates remain in short supply.
Technology Flex margins declined 100 basis points a year over year due to higher healthcare costs and modest declines in bill-pay spreads due to heightened price sensitivities and changes in business mix.
The decline in technology flex margins on a year-over-year basis that we experienced over the last several quarters is fairly typical of what we have seen in prior slowdowns. And we typically see margins recover as the macroeconomic environment stabilizes. As additional reference, margins in our technology business in 2022 were consistent with 2021
over the longer term and relative margin stability.
Flex margins in our FAA business increased 150 basis points sequentially and have improved nearly 400 basis points over the last three years as our mix of business has improved due to repositioning efforts. Much like our technology business, we anticipate Flex margins to remain fairly stable at these levels.
Now that the significant majority of business that we are no longer pursuing has run off. As we look forward to Q3, we expect spreads in our technology business to decline slightly due primarily to higher utilization of paid time off during the summer months reasonably consistent.
with what we experienced in the third quarter of 2022. As we look beyond Q3, as clients increasingly engage us for projects critical to their ongoing success, including managed teams and project solutions engagements that are typically higher margin opportunities, we expect this to support overall margin stability. Overall, SGNA expenses is a percentage of revenue decreased to 70 basis.
Given our exceptional growth in 2021 and 2022, our Compensation Plant Structure rewarded our top performing associates with very significant bonuses and commissions.
With growth coming off those historically very high levels, we are generating leverage in our SGNA costs through lower overall performance-based compensation costs.
We've also been successful at driving greater cost efficiencies from our real estate portfolio, given our office occasional model, which has allowed us to reduce overall square footage by more than 40%.
As we continue to transition a remaining, office leases over the next two to three years, we expect to generate additional savings from further reductions in overall square footage.
In this environment, we are also tightly managing other areas of discretionary spend.
Our second quarter operating margin was 6.7% which was at the middle of the range of our expectations.
Our overall effective tax rate in the second quarter was 27.5%.
Operating cash flows were $21 million in our return and invested capital was approximately 40% in the second quarter.
We have a balance sheet with very little depth and expect to be generating more than $100 million in operating cash flows in 2023.
We've had a long history of returning capital to our shareholders.
Since we initiated our dividend in 2014, we've increased it 360%. In addition, since 2007, we've reduced our weighted average shares outstanding from 42.3 million to 19.3 million or more than 50% at an average price of approximately $21 per share.
All in, we've returned nearly $900 million in capital to our shareholders since 2007, which is represented approximately 75% of the cash generated while significantly growing our business and improving profitability levels.
In the second quarter, we return nearly 100% of operating plant cash flows to our shareholders through repurchases and dividends. This is a continuation of the levels we've seen over the past two years.
Our plans going forward remain unchanged. We remain committed to returning capital regardless of the economic climate. Our balance sheet and the flexibility we have under our credit facility provides us the opportunity to get more aggressive in repurchasing our stock if there's a dislocation between expected future financial performance and the valuation of our shares.
The third quarter has 63 billing days, which is one fewer, fewer than the second quarter of 2023, and one fewer than the third quarter of 2022. We expect Q3 revenues to be in the range of $359 million to $367 million and earnings for share to be between 60 and 68 cents.
As Joe referenced in his opening remarks, we implemented some very difficult changes this month that immediately reduced our costs to better align overall support of the firm with current and expected near-term revenue levels.
Our overall operating performance at these revenue levels remains well above what it had been previously, which is reflective of the return we are seeing from previous strategic investments.
Contemplated in our third quarter guidance is a charge of approximately $5.5 million or 22 cents a share related to these actions.
Excluding this charge, the range of earnings per share would be 82 to 90 cents.
We anticipate that these actions will reduce annual operating costs from current run rates by approximately $14 million or $3.1 million per quarter.
We will partially benefit from the savings in Q3 due to the timing of the actions.
Our guidance does not consider the potential impact of any other unusual or non-recurring items that may occur.
Looking beyond the expected short-term macroeconomic uncertainties, we remain extremely excited about our strategic position and prospects for continuing to deliver above market growth, while continuing to make the necessary investments in our integrated strategy and back-office transformation efforts that will help drive long-term growth
and put us in a position to attain double digit operating margins as we grow. On behalf of our entire management team, I'd like to extend a sincere thank you to our teams for all of their efforts.
Operator, we'd now like to turn the call over for questions.
At this time, I would like to remind everyone in order to ask a question, please press star followed by the number one on your telephone keypad. Thank you. Thank you.
Your first question comes from Mark Markon with Baird. Your line is open. Good afternoon.
Joe and Kai, I was wondering if you could talk just a little bit more about what you're hearing from some of your larger tech flex clients just in terms of how they're thinking about the remainder of the year and when they think that they might get a little bit more clarity with regards to their outlook.
Yeah, Mark's show. I would say, and you know, this is, I mean, you've heard this countless times already. Given how well-forecasted the times that we're in have been, we believe that our clients have been reacting in preparation for what I'll say is more of a shallow type recession.
And those activities started probably about a year or a go. And they've continued to respond in that nature. You've been around this sector for quite some time. And I don't know if it will be different this time, but historically, the first thing that I've seen, and I think this is my fifth cycle in my 45.
or whether they're contract oriented. You know, the next phase, if things get tougher, or they start to reduce their permanent staff, and then the next phase, when they start to believe that there's some forward look, they start to quickly bring flexible resources back on to address all the pent up demand that is built up throughout the...
that down cycle and then once they have confidence they start re-iring the full time staff. So where we see our clients at this point in time is they are in a weight and say. Like everybody else in the market they don't know what's around the corner and we work with predominantly. You know fortune 500 organizations from the most sophisticated organizations on the planet.
No one has that crystal ball so they are operating with caution. The good news is unlike some of the more abrupt, I guess, cycles that I've been involved with in the past, which has really been just about every cycle, has been in a abrupt wake up call. I think the foreshadowing of this has caused organizations to react very differently. So I'd say the positive with that.
efforts, we're seeing them continue to look at cloud migration, those types of things, but they're definitely trimming back as they wait and see what the future holds. And Mark, important to note, when we talk trim back, what we're seeing with our clients is similar, I view K-forces as a microcosm, which means...
We are spending more on a year-over-year basis in terms of technology. We have more projects than we have capital to be able to address right now. And by the way, in this climate, every day, that backlog of pent-up demand and projects is just building. And we see that with our clients because the patient need for technology has not-
You know, whether you think the cost structure is fully right size at this point, and I guess if the macro did happen to get even worse from here, you know, how much room you might have for further cost reductions and where you might be able to make those cuts. Yeah, I guess a couple of comments that I would make, right? I think it's important for you to understand how we think about things when things are a little slower. Certainly we made some reductions. Obviously, you can see the top line and so we've made sure that we're appropriately building a cost structure to support that to maintain capacity as well as continue to invest in strategic initiatives. So we think we'll help.
is an economist. So, Jill mentioned mild recession if something happens.
I would say that it's significantly worse than that. We'll look at it. So, hard to tell you whether things will change until you can tell me what's gonna happen with the economy. So, I think we're very comfortable where we are. Feel good about this. I mentioned, obviously, when you look at the actions that we've taken, you look at the profile that we have as a firm. Our profitability levels, if you look at these revenue levels are far higher than they were.
Prudent decisions have been made here. Yeah understood. All right. Thank you very much. Your next question comes from Karthik Mehta with North Coast Research. Your line is open. Dave, just to hit on the cost actions you took, you talked about saving about three and a half million on a full run rate quarter. And I'm wondering is that three and a half million absolute dollars you anticipate saving? Or is that just you know, you still have to deal with inflation. So it's really not three and a half million that we'll see.
throughout a quarter. No, we'll see three and a half million dollars a quarter. Perfect, yeah. So we're copying that number.
Great. Yeah, we're losing. When we look at the stuff, go ahead. No, no, no, go right ahead. I apologize.
No, no, ask your questions. Oh, thank you. I know you talked a little bit about maybe sales cycles, and I'm wondering, projects are being elongated, but are sales cycles not being elongated? And if so, are you a little surprised by that?
The sales cycles are being elongated because again, as I mentioned, there's longer approval processes and more scrutiny around budgets than we've seen in recent years. They're still approving, most of our clients are still approving new projects. We're still adding staff. It's just not at the rate we've seen in the past couple of years because of
chain of command or maybe even going into the finance organization because again everybody's looking forward on what's happening with their revenue trajectories and so on and so forth and that's what just slows down that overall approval process.
Thank you very much.
But I think overall, you're seeing those higher level skill rates, you're seeing them managed teams, managed projects have a little bit more certainty and trajectory than what you're seeing in some of the other space.
That's very helpful. Thank you. I guess my follow-up is, I guess, Joe, you mentioned that the first spending and how they usually come back. Could you kind of talk about how long do you think your clients can defer this spending without impacting their competitiveness based on what you know about the projects?
there aren't really outliers. So the only dynamic that really differentiates anybody is if you had a disruptive or disruptor organization within that space you know that would come into play. But you know we've also seen a lot of pullbacks from VC funding and things of those nature so that landscape has not been...
and elect to...
spend more money at the expense of managing their P&L and their quarterly earnings and things of that nature. And then I think you will see the competitors react, but we have yet to see any breakout organizations go move from that whole herd mentality.
Yeah, and you just have to continue with the regulations too.
Yeah, no, that makes sense. Is there any way to quantify how much incremental GNA you might save with the exit of the remaining office footprint over the next two or three years?
Yeah, well, I think the comments that we made here, we probably got that, as you said, another two or three years. You know, it's...
Yeah, we already had a significant reduction in footprint. You know, it's probably a couple million dollars only. So there's still some benefit here that will occur over time, but it's not a huge amount any longer. We've done a lot of that work.
Nice of that. Last one for me, just based on the prepared remarks, it sounds like the repositioning in the FAA business is now basically complete. Is there anything that you could share with us about maybe a new go to market there and how that business might be more search played?
I guess synergistic with the core tech business going forward. You know, as I mentioned, I think we've made good progress. We're continuing to see bill rates go up even in this environment. I think right now the bigger issue for us is just the macroeconomic environment in the finance and accounting space.
No, that makes sense. Thanks for taking the questions.
Again, if you would like to ask a question, please press star, then the number 1 on your telephone keypad.
Your next question comes from Mark Riddick with S
Good afternoon everyone.
I wanted to, you covered a lot already but I did want to sort of circle back and when you're talking to clients as far as the types of projects that they may be moving forward on. Granted it's slow and delayed but I was wondering if you've seen much in the way of change as to the catalysts that are driving the projects that are under consideration. Are you seeing anything that would sort of could end up being potential future green shoots when we sort of get client activity going again at a greater pace and then I have a quick follow up after that.
Yeah, I would say in general, I mean, the same areas where clients have been focused, they're continuing to focus. So there's not anything of a material nature out there. We are hearing a little bit more in and around Gen AI and how organizations are looking to elaborate is very exciting.
of where they need to get on that front. Again, I go back to K-Force, the microcosm of that. You know, we did some work on our front office operations and systems for a matter of about five or six years. We've turned our attention to modernizing and digitizing our back office. And in parallel with that, we have a huge backlog that's building in terms of our front office. And this is what our same clients are dealing with. This is endless. Okay, thank you for that. That was one of the, I guess my follow-up is around candidate availability and maybe.
I'll take that one. From a talent perspective, in those highly skilled areas, you know, some of the areas that Joe just mentioned, cloud engineers, data analytics, those types of positions are still competitive. They're still hard to find quality people, still very much in demand. Where we're seeing the softening is in those lower level positions. There's definitely been a softening, you know, as you move down from those areas and more your production support or those types of things.
And we haven't seen any of that change. So even with the softening that's taken place, there is still so much demand. It's just those individuals are being moved around a little bit, maybe out of the more enterprise organizations that were much further ahead of the curve of adjusting for this softening that we're seeing. But then they're being absorbed by more mid-tier organizations.
Thank you for your interest in support of K-Force. I'd like to say thank you to every K-Forcer for your efforts and to our consultants and our clients for the trust in K-Force allowing us to partner with you and allowing us to pretty much we look forward to speaking with you following our two-three. Thank you. This concludes today's conference call. You may now disconnect.